Asia and the Pacific remains a dynamic region despite the challenging year for the world economy.
Global growth is poised to decelerate as rising interest rates and Russia's war in Ukraine weigh on activity. Inflation remains high, and banking strains in the United States and Europe have injected greater uncertainty into an already complex economic landscape.
Domestic demand in Asia has so far remained strong despite monetary tightening, while external demand is weakening. The International Monetary Fund projects the region's growth this year to accelerate to 4.6% from 3.8% last year.
China's reopening will provide fresh momentum to Asia. Normally the strongest effect would be from demand for investment goods in China, but this time the biggest effect is from demand for consumption.
China's reopening is expected to provide a new impetus to the tourism sector in Thailand helping GDP growth to accelerate to 3.4% in 2023 from 2.6% in 2022.
INFLATION CHALLENGE
Inflation remains a challenge in several countries. Global commodity prices have moderated and supply chain pressures have eased. Headline inflation has been easing, but it remains above central banks' targets in many countries. Core inflation, which excludes food and energy, has also proven sticky.
The effect of currency depreciation against the US dollar last year is still passing through to prices. The impact could be greater than usual, because of the already-high inflation.
In Thailand, inflation dynamics have been more favourable, with both headline and core inflation falling within the Bank of Thailand's target range of 1-3% in March 2023. This reflects declining commodity and prepared food prices as well as limited demand-driven inflationary pressures due to a still negative, albeit narrowing, output gap. Further, despite some volatility in the exchange rate in early 2023, the baht has been relatively stable.
Significant uncertainty about the path of global financial conditions presents another challenge. The recent turbulence in some US and European banks has led to caution about contagion risks.
Banks in Asia could suffer losses from increases in wholesale funding costs, liquidity stresses following sudden deposit withdrawals or retrenchment in external funding lines, and sudden declines in the market values of assets. The fallout on Thailand from recent financial market stress elsewhere has been limited so far.
Domestic vulnerabilities are also evident. Leverage had increased even before the pandemic. Corporate debt is concentrated in firms at risk of insolvency and in a few sectors, such as property. Asian financial systems should be able to withstand these stresses as they have strong capital and liquidity buffers, but financial supervisors must be alert.
In Thailand, corporate and household debts amount to 78% and 88% of GDP respectively. The high share of fixed-rate debt limits the impact of higher interest rates on the private-sector debt burden. Also, Thailand's banks have maintained strong capital and liquidity buffers. However, the need for deleveraging will weigh on private consumption and investments in the near term.
Fiscal consolidation amid high debt accumulated during the pandemic and rising interest rates is another challenge in Asia. While most governments plan to consolidate budgets this year and next, it may not be enough to stabilise debt, and rising interest rates would make the burden even heavier.
Finally, there are heightened risks to economic growth ahead. China is expected to slow over the medium term, while its growth is likely to shift from investment to consumption with significant implications for the region. Greater geo-economic fragmentation would also add to pressures on growth potential.
What do these challenges mean for policymakers?
Policymakers should monitor vulnerabilities and develop contingency plans. Central banks should use available tools -- such as lending and discount facilities -- to ease liquidity constraints in the banking sector, allowing them to continue to tighten policy to address inflationary pressures.
The Bank of Thailand should continue with its gradual and data-dependent policy normalisation, with foreign-exchange interventions reserved to address disorderly market conditions. Further strengthening of the insolvency regime would facilitate the orderly exit of non-viable firms and restructuring of private debt.
STRIKING A BALANCE
Fiscal consolidation is needed to ensure sustainability over the medium term -- but policymakers must strike a balance between supporting growth, protecting the vulnerable and addressing debt concerns.
While Thailand still has some fiscal space, fiscal policy should continue its gradual consolidation focused on the medium-term goal of stabilising public debt. Social support measures should be better targeted to protect vulnerable groups more effectively, while costly universal energy subsidies should be gradually phased out.
The region must prioritise policy initiatives that foster innovation-driven economic development. Opportunities presented by the green transition, if used effectively, can become the region's new growth drivers.
For Thailand, efforts to upskill the workforce, increase investments in the digital economy and R&D, and ease business regulations are needed to boost productivity and medium-term growth.
Krishna Srinivasan is the director of the Asia and Pacific Department and Corinne Delechat is division chief and mission chief for Thailand at the International Monetary Fund.
